Even before the government activated chaos in the mortgage market On September 23, the UK property market was showing signs of fragility.
There are plenty of reasons to expect a slowdown: Among them, a looming recession, sharply rising interest rates, the end of home shopping, a long and drawn-out price boom, the cost-of-living crisis, and looming tax increases. On the other hand, the government has just introduced (another) stamp duty holiday and demand remains strong in a decent job market.
But given the key role the housing market plays in underpinning consumer spending and the electorally important “feel good factor” that buying a home provides, the potential extent of this slowdown is causing anxiety. A moderate drop in prices might not be a disaster for the UK economy, given the huge gap between renters and landlords.
However, the bleaker predictions are now gaining traction, and that has already had a ripple effect on valuations of listed real estate stocks. We weigh the case for and against a housing crash, and what homebuilders themselves are saying: This week we get updates from Persimmon (psn), Taylor Wimpey (tw) and Vistry (VTY).
A data blizzard
There is a storm of real estate market data to digest, some of which give conflicting and outdated messages about the state of the market. These pricing data often do not reflect the reality on the ground for active buyers and sellers.
They sometimes act as a Rorschach test: Homeowners with a large mortgage may prefer more upbeat news than would-be first-time buyers who eagerly anticipate a crash that will make properties more affordable. There are so many vested interests and biases here that it’s hard to understand what’s really going on.
Let’s start with the most recent update from Halifax Construction Society, a provider of one of the key datasets, along with Nationwide. UK house prices hit a five-month low in October, with growth slowing to 8.3% year over year in October, after rising 9.8% in September. Therefore, prices may be falling month-on-month, providing some support for the idea of a slowdown, but they are still higher than a year ago.
The median house price, according to Halifax, is £292,599, so based on October growth rates, that house will be worth £316,884 next year. The long-term price chart is a sobering reminder of how relentless the housing boom has been, even factoring Brexit, the financial crisis and the pandemic into the equation.
Nationwide data shows a growth rate of 7.2% last month, up from 9.5% in September, with an average price of £268,282. Robert Gardner, the chief economist at the Mortgage Credit Society, describes this as a “sharp slowdown” with the potential for further declines in the coming months.
“The outlook is extremely uncertain, and much will depend on how the broader economy performs, but a relatively soft landing is still possible,” he said.
What do the home builders say? Naturally, they are interested in promoting the “glass half full” narrative. Bellway is one of the most recent companies to report, although these are figures from the end of the summer, rather than the fall of economic chaos. He said buyers have become more cautious as the summer has ended and that has led to a drop in bookings. But Bellway believes the stamp duty cut will help boost demand, along with a high level of employment.
Persimmon released a business update today, and while it maintained its forecast of 14,500-15,000 homes sold in 2022, it issued a note of caution for 2023 given “recent and rapid change in market conditions.” He doesn’t provide specific guidance for 2023, but expects fewer completions and lower average sales prices.
“While we have already seen mortgage providers and customers begin to adjust to higher interest rates, the full impact of this uncertainty on consumer behavior has yet to be determined.”
Persimmon also cut its dividend, a move that pushed its share price down.
dead on his tracks
To an investor, some of this year’s market moves for homebuilder stocks appear to be trading in the most extreme predictions, with the largest stocks halving or nearly halving this year. Four-fifths of the homebuilders Morningstar covers are significantly undervalued.
One of these, Bellway (BWY), is our top pick in the sector, according to analyst Grant Slade. Income investors will also note how strong some of the dividend yields have become after recent market declines, with the usual caveats about 10% dividend yields.
From an owner’s perspective, what happens next year is more important than the most recent data. Mortgage rates have risen sharply due to rising interest rates, but there was a sliver of hope offered by the Bank of England last week. Rates may reach a point lower than what the markets are pricing in, the governor said.
Lender Lloyds Banking Group (LLOY) just forecast a close to 8% drop in house prices in 2023, but the media jumped on the possibility of an 18% drop in the most extreme scenario.
All of that means that the government’s role in what happens next cannot be overstated. Kwasi Kwarteng may have raised the stamp duty threshold in September, a potential boost to a failing market, but Jeremy Hunt’s November 17 budget is expected to introduce measures that will hasten the property market’s decline.
One change that has come to light in the press is an increase in the capital gains tax (CGT) on residential property, a move that will certainly affect homeowners who buy to rent. It is likely to prove popular with tenants, but can trigger a sell-off of flats, particularly in urban areas. But could the government be contemplating the nuclear option of imposing the CGT on owners as well?
Taxing residential property gains would go down particularly badly with the Conservative electoral heartland ahead of elections in the next two years. If you’re wondering what could happen to the post-pandemic housing boom, that policy would probably kill you cold.